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The performance of investment grade corporate bond funds: evidence from the European market

2008; Taylor & Francis; Volume: 15; Issue: 2 Linguagem: Inglês

10.1080/13518470802588841

1466-4364

Leif Holger Dietze, Oliver Entrop, Marco Wilkens,

Banking stability, regulation, efficiency

Abstract This paper examines the risk-adjusted performance of mutual funds offered in Germany which exclusively invest in the 'rather new' capital market segment of euro-denominated investment grade corporate bonds. The funds are evaluated employing a single-index model and several multi-index and asset-class-factor models. In contrast to earlier studies dealing with (government) bond funds, we account for the specific risk and return characteristics of investment grade corporate bonds and use both rating-based indices and maturity-based indices, respectively, in our multi-factor models. In line with earlier studies, we find evidence that corporate bond funds, on average, under-perform the benchmark portfolios. Moreover, there is not a single fund exhibiting a significantly positive performance. These results are robust to the different models. Finally, we examine the driving factors behind fund performance. As well as examining the influence of several fund characteristics, particularly fund age, asset value under management and management fee, we investigate the impact of investment style on the funds' risk-adjusted performance. We find indications that funds showing lower exposure to BBB-rated bonds, older funds, and funds charging lower fees attain higher risk-adjusted performance. Keywords: performance measurementEuropean corporate bond marketinvestment grade corporate bond mutual fundsmulti-index modelasset-class-factor modelgeneralized Treynor ratio JEL Classifications : G11G23 Acknowledgements Financial support by Konrad-Adenauer-Stiftung is gratefully acknowledged by Leif Holger Dietze. Parts of this research were done while Oliver Entrop was visiting the School of Banking and Finance, University of New South Wales. He thanks Terry Walter and the academic and administrative staff for their hospitality and support. Parts of this research were done while Marco Wilkens was visiting the Australian Graduate School of Management, University of New South Wales. He thanks Timothy Devinney and the academic and administrative staff for their hospitality and support. We thank Feri Trust for providing data and Anette Dyroff at Feri Trust for assistance with their database. We are grateful to participations at the finance seminar at University of Hohenheim, the 18th Australasian Banking and Finance Conference 2005, Sydney, the French Finance Association International Meeting 2005, Paris, the 2006 Financial Management Association European Conference, Stockholm, the European Financial Management Association 2006 Conference, Madrid, the 4th Portuguese Finance Network International Conference 2006, Porto, and, especially, to Jonathan Fletcher, Frank K. Reilly, James D. Rosenfeld, Gilles San Filippo, and Hendrik Scholz for helpful comments and suggestions on an earlier draft of this paper. Furthermore, we thank two anonymous referees and Chris Adcock, the editor, for their helpful comments. Notes We refer to corporate bonds as both financials and non-financials. To save space, we omit reporting certain details (such as the β coefficients from the regressions) and several additional analyses (such as average selection returns) we carried out. Details are available from the corresponding author upon request. Many studies such as Blake, Elton, and Gruber (1993) Blake, C. R., Elton, E. J. and Gruber, M. J. 1993. The performance of bond mutual funds. Journal of Business, 66: 371–403. [Crossref], [Web of Science ®] , [Google Scholar], Maag and Zimmermann (2000) Maag, F. and Zimmermann, H. 2000. On benchmarks and the performance of DEM bond mutual funds. Journal of Fixed Income, 10: 31–45. [Google Scholar] and Ferson, Henry, and Kisgen (2006) Ferson, W., Henry, T. R. and Kisgen, D. J. 2006. Evaluating government bond fund performance with stochastic discount factors. Review of Financial Studies, 19: 423–55. [Google Scholar] report on average neutral before-cost performance. Note that there is a difference between expense ratios in the studies mentioned above and the management fees we use, as the former contain, in addition to management fees, other directly chargeable operating costs that we do not have information on. However, management fees can be assumed to account for the major part of the total costs. Moreover, another reason may be organizational diseconomies based on hierarchy costs (Chen et al. 2004 Chen, J., Hong, H., Huang, M. and Kubik, J. D. 2004. Does fund size erode mutual fund performance? The role of liquidity and organization. American Economic Review, 94: 1276–302. [Crossref], [Web of Science ®] , [Google Scholar]). For a detailed analysis of all these so-called diseconomies of scale, see Perold and Salomon (1991) Perold, A. F. and Salomon, R. S. 1991. The right amount of assets under management. Financial Analysts Journal, 47(3): 31–9. [Taylor & Francis Online] , [Google Scholar]. See, e.g. Sawicki and Finn (2002) Sawicki, J. and Finn, F. 2002. Smart money and small funds. Journal of Business Finance and Accounting, 29: 825–46. [Crossref] , [Google Scholar] for an overview and an investigation of effects due to size and age in the smart money context. For US bond mutual funds Malhotra and McLeod (1997) Malhotra, D. K. and McLeod, R. W. 1997. An empirical analysis of mutual fund expenses. Journal of Financial Research, 20: 175–90. [Crossref] , [Google Scholar] report an inverse, albeit not significant, effect. Following Sharpe (1992) Sharpe, W. F. 1992. Asset allocation: Management style and performance measurement. Journal of Portfolio Management, 18: 7–19. [Crossref], [Web of Science ®] , [Google Scholar], we also calculated the average selection return for each fund out-of-sample using a moving time window. As this does not change our findings, we do not report the results. The indices are capitalization-weighted and rebalanced monthly. In order to be included, corporate bonds must fulfill certain criteria. For example, they have to be denominated in euros or pre-euro currencies with an outstanding amount of not less than €500 million; however, the issuer's nationality is not relevant. See International Index Company Ltd. (2004) International Index Company Ltd. 2004. Guide to the iBoxx € benchmark indices, Version 3.1. December [Google Scholar] for details. It is well known that Macaulay duration has to be interpreted with caution when bonds with embedded options such as callable bonds are considered (Fabozzi 2000 Fabozzi, F. J. 2000. Bond markets, analysis and strategies, Upper Saddle River: Prentice Hall. [Google Scholar], 360–61), where effective duration is more suitable. However, these bonds are less common in Europe than in the US. For example, callable bonds typically represent only a minor part (about 20% in June 2006) of the Corporates BBB index as reported by International Index Company Ltd. This is also supported by Wald tests of the β coefficients: in MIM-2, the coefficient of the Sovereigns index is significant at 10% level for only four funds; in MIM-3, the coefficients of the Sovereigns and the Stoxx index are jointly significant for only five funds; in MIM-5, the Stoxx index is significant for 10 funds. The latter is plausible: as the maturity-based indices are dominated by high-quality bonds, the Stoxx index can be expected to serve as a proxy for lower quality bonds (BBB). None of these coefficients are significant when portfolios of funds, described below, are considered. Analog results hold if t-tests of the coefficients are carried out. None of the funds has a significantly positive α when we change the null hypothesis from α ≥0 to α≤0. The same holds for the asset-class-factor models. We also ran analogous regressions on the transformed variables log(size) and log(age). The results are qualitatively the same.